U.S. Oil Production Sees Growing Pains from Limited Pipeline Capacity

The problem in the oil industry right now isn’t as clear cut as supply outpacing demand. The demand is there, but getting that supply to the marketplace poses a major challenge.

That’s according to John Coleman of Wood Mackenzie, one of the speakers at the North American Property Expo (NAPE) Summit in Houston this month.

“Well, it’s not that there’s no demand for these oil barrels or gas molecules, but simply that they are going to have trouble accessing the market,” he said.

Coleman, who is a senior analyst at the firm, will present, “So Much Supply and Nowhere to Go: An Outlook for North America Oil and Gas Markets,” along with Kristy Kramer, head of Americas gas research for Wood Mackenzie.

Simply put, the bar that needs to be cleared in 2019 is connectivity: The pipelines, obviously, as well as the trucks, rail-market access, and other midstream logistics will put an indelible mark on the health of the industry.

Record Production

The problems were predictable.

“It came up short in 2018 and 2019 and 2020 will be more of the same,” he said.

As to how we got to this point, Coleman – who is responsible for short and long term North American crude market outlooks, crude differential forecasts and midstream logistics analysis for his firm – said part of it was last year’s stellar production.

“It is a function of economics and incentives behind shale production growth in the U.S. In 2018, we had very strong crude prices which brought a lot of crude to market and associated gas along with that,” he explained.

The problem in the oil industry right now isn’t as clear cut as supply outpacing demand. The demand is there, but getting that supply to the marketplace poses a major challenge.

That’s according to John Coleman of Wood Mackenzie, one of the speakers at the North American Property Expo (NAPE) Summit in Houston this month.

“Well, it’s not that there’s no demand for these oil barrels or gas molecules, but simply that they are going to have trouble accessing the market,” he said.

Coleman, who is a senior analyst at the firm, will present, “So Much Supply and Nowhere to Go: An Outlook for North America Oil and Gas Markets,” along with Kristy Kramer, head of Americas gas research for Wood Mackenzie.

Simply put, the bar that needs to be cleared in 2019 is connectivity: The pipelines, obviously, as well as the trucks, rail-market access, and other midstream logistics will put an indelible mark on the health of the industry.

Record Production

The problems were predictable.

“It came up short in 2018 and 2019 and 2020 will be more of the same,” he said.

As to how we got to this point, Coleman – who is responsible for short and long term North American crude market outlooks, crude differential forecasts and midstream logistics analysis for his firm – said part of it was last year’s stellar production.

“It is a function of economics and incentives behind shale production growth in the U.S. In 2018, we had very strong crude prices which brought a lot of crude to market and associated gas along with that,” he explained.

The problem now is that crude production growth is exceeding the midstream sector’s ability to develop assets and infrastructure to support it fast enough. In short, “hydrocarbon growth is growing faster than pipelines can be built to get it to where it needs to go,” Coleman explained.

“When that happens, you’re going to see speed bumps along the way,” he added.

One such bump, and it was major one in 2018, was the Permian Basin, which, Coleman said, will largely be resolved in the next few months, but there are other regions that will experience similar problems and there’s no guarantee they will come through it as well as the Permian will.

“You’ll see these other speed bumps emerge in other parts of the U.S.,” he said.

The frustrations of all this are felt both in the demand and supply side of the paradigm.

“From the producers’ side, you could have strong global crude prices, which would normally incentivize a lot of production, but if you don’t have a very reliable way of transporting your crude to market, you have to do it by a more expensive means, other than a pipeline, like rail or trucking,” Coleman said.

And that higher expense can add up. For example, he said, if the pipeline costs you five dollars and a truck costs you fifteen, it makes a huge difference if global prices are $50 or $80. Which is why, he said, at $53 ppb WTI, economic conditions will deteriorate pretty quickly, especially since crude was in the high $70s/low $80s, just a few short months ago. Most basins, he reiterated, would be economically viable in a $72-type WTI environment, including finding other transportation models, but in the low $50s, some of those sub regions start to fall out on an economic curve.

If prices stay where they are, Coleman sees 2019 as a slower growth year in terms of crude production.

There are other factors at work. In December, OPEC cut oil production by 1.2 million barrels per day – or about one percent of total global supply – which Coleman said was what the market expected. Still, he believes it’s too early to see what the ultimate effect of that cutback will be.

Currently, the United States is producing about 11.7 million barrels per day and Coleman said that all of it will eventually find a home, with shale leading the way.

“U.S. shale production is the most sensitive production. It can respond sooner with large price drops and large price upswings. It can come online faster,” he said.

Challenges to Exports

Overall, he said the market is relatively balanced. When asked in terms of his presentation at NAPE, what is on the mind of participants, Coleman had a quick answer.

“This is a great question. The common theme is ‘What’s next for crude after the Permian Basin?’ The Permian obviously exceeded pipeline capacity, pricing blew out – this is a well-known story. Now, once it’s all clear, is it open skies?” he asked, “or are there going to be other problems in other areas?”

And that he said is what he will focus on during the talk.

“On the crude side: What are the potential risks to other parts of the country where mid-stream, in our view, is not going to be sufficient?”

There are areas he is watching closely.

“The biggest problem we see is in coastal hubs in terms of exporting all these barrels,” he added.

Historically, he said, many of these coastal hubs were built for importing crude into the United States and distributing to demand centers, but with shale production, lifting of the export ban and other factors, exporting is now a major concern.

This new export dynamic “turned that whole notion on its head,” meaning these coastal centers designed to bring oil in now have to be repurposed to get the crude out.”

There’s good and bad news on that front.

“A lot of that export infrastructure has been sufficient so far, but as production continues to grow, we’re indicating that might be a major problem in certain hubs in late 2019, early 2020. We are particularly looking at Corpus Christi being in the crosshairs. With all these Permian pipelines coming online late this year, providing relief on the basin side, they could be running into bottlenecks as they move 500 miles across Texas to Corpus Christi. That may be the biggest red flag we are advising clients about,” Coleman said.

Solutions are needed and there are, in fact, some on the horizon.

In Corpus, for instance, he sees more storage tanks, more export docks, and offshore terminal solutions.

“There’s just going to be a mismatch for a while on the timing when the barrels arrive in that market,” he said.

So what does the next 12 months look like? Will all that oil and gas have somewhere to go?

“I’ll just say that 2018 was a very strong year for production growth. That might not necessarily be the same in 2019, due to some structural issues. Things could be a bit slower.”